A Linear Probability Model You Have Developed Finds There Are

question 115

Multiple Choice

A linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt-to-equity ratio and the profit margin. Based on past bankruptcy experience, the linear probability model is estimated as:
PD_i = 0.02 (debt/equity) + 0.80 (profit margin)
A firm you are thinking of lending to has a debt-to-equity ratio of 110 percent and its expected probability of default, or bankruptcy, is estimated to be 8 percent. If sales are $2 million, calculate the firm's net income.

• A) $145,000
• B) $165,000
• C) $160,000
• D) $200,000

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Definitions:

Returned by Bank

Transactions or items that a bank cannot process and are sent back, such as bounced checks due to insufficient funds in the account.

Not Sufficient Funds

A term used by banks to indicate that a check cannot be honored because the account on which it was drawn does not have enough money.

NSF Check

A cheque that has been returned by the bank because it cannot be honored due to insufficient funds in the account.

Bank Statement

A summary issued by a bank detailing all transactions in an account over a specific period.